Is The Euro Too Strong?

The realisation that a strong currency is not what the Eurozone needs became clear yesterday as Jean-Claude Juncker, Eurogroup President, announced that the euro had hit “dangerously high levels”. EURUSD traded above 1.34 for the first time in over a year yesterday while EURJPY and EURGBP remain at elevated levels. For the most part this is a function of the increasing confidence in the Eurozone as the ECB is seen to now provide a dedicated and effective backstop for the region. It has also manifested itself in the tightening of yields on peripheral debt; something which I don’t hear any politician decrying at the moment.

We have written about “currency wars” many times over the past few years and you can consider this another chapter. Most central banks have taken part in some form of loosening of monetary policy or direct intervention to weaken their currency and improve trade terms. The ECB hasn’t and, alongside its anti-inflation paranoia that precludes it further cutting interest rates, is on the wrong side of the trenches.

That being said, the euro is not at particularly high levels against long-term averages but then again, it’s not like the Eurozone is enjoying economic productivity at long-term average levels either. Measures to bring the euro lower are not the kind of policy that central banks tend to apply to the growth crisis that the region finds itself in. If the sovereign crisis was still an issue then I don’t think that we would be talking about it.

To put this all into perspective the Japanese Chief Cabinet Secretary Suga came out overnight saying that the government are not making statements to deliberately weaken the yen. That’ll be the same yen that is hitting near 2.5yr lows following consistent pressure by the government on the Ministry of Finance and the Bank of Japan.

Sterling remained weak against the “dangerously high” euro but climbed off the lows as traders took profit on the single currency. It was unaffected by yesterday’s inflation data that showed CPI at 2.7%. While this figure suggests that inflation has stabilised within the target range we expect this to be last reading for a while that sees CPI below the 3.0% level. While the Bank of England’s asset purchase program isn’t in itself inflationary, the devaluation of sterling is.

Our largest import through 2013, because of the Bank’s monetary policy, will be inflation. Home-grown price pressures are also increasing with transport, food and utilities boosting upwards in the latter part of 2012; this will continue to erode wage value through 2013, hurting consumer confidence and limiting spending.

CHF continued to weaken yesterday (another function of a central bank intervention) with EURCHF peaking its head above 1.24. This move started with a Zurcher Kantonal bank statement about charging for CHF deposits, joining the likes of Credit Suisse and UBS. The extension of the rally has come with people now talking about the “wall of money” moving out of Switzerland.

Data today is light with US inflation likely to show few price pressures across the pond while industrial production is also set to slip by 0.3% following longer than expected bounce-back to productivity following Hurricane Sandy. We also have a bill auction from Portugal and a 10yr debt sale from Germany.